EU Lowers Forecast as Euro Area Heads For Two-Year Slump

France, now projected to shrink 0.1 percent instead of growing by the same amount, joined seven other euro-area economies expected to contract this year. Photographer: Balint Porneczi/Bloomberg

May 3 (Bloomberg) -- The euro-area economy will shrink more
than previously estimated in 2013 as part of a two-year slump
that has pushed up unemployment to a record, according to the
European Commission.

Gross domestic product in the 17-nation currency bloc will
fall 0.4 percent this year, compared with a February prediction
of 0.3 percent, the commission said in a report issued in
Brussels today. This follows a 0.6 percent contraction in 2012
and shows the region headed for its first ever back-to-back
years of falling output.

France, now projected to shrink 0.1 percent instead of
growing by the same amount, joined seven other euro-area
economies expected to contract this year. Growth across the
currency bloc will return too slowly to reduce unemployment, as
the euro area remains dependent on exports to offset the impact
of the sovereign debt crisis and banking woes, the European
Union said.

“In view of the protracted recession, we must do whatever
it takes to overcome the unemployment crisis in Europe,” said
EU Economic and Monetary Affairs Commissioner Olli Rehn. He
called for the EU to undertake “structural reforms” to bring
back jobs and said budget consolidation will continue at a
slower pace.

For France and Spain, that may translate into two extra
years to meet the EU’s deficit goals, Rehn told reporters in
Brussels. Other nations, like the Netherlands, Poland and
Slovenia, may get one additional year.

Record Unemployment

Five euro-area nations have so far sought international aid
during a financial crisis that has left 19.2 million workers
without jobs and required trillions of euros in financial-sector
assistance. The euro area’s response has focused on lowering
national debts and strengthening banking regulation, a strategy
endorsed in today’s report.

Unemployment in the euro area is expected to climb to 12.2
percent in 2013, up from 11.4 percent last year. An “increasing
labor-market mismatch” will keep the jobless rate high in the
medium term and bodes poorly for those who have been out of work
for extended periods, according to the EU.

The euro was higher against the U.S. dollar, trading at
$1.3125 at 12:46 p.m. in Brussels, up 0.5 percent on the day.
Today’s rise follows a decline yesterday against 15 of its 16
major peers and comes as markets wait to see how U.S.
unemployment data follows last month’s disappointing report of
the fewest new positions in nine months.

Rate Cut

The European Central Bank yesterday reduced its key
interest rate to a record low, the first rate cut since July
last year. Policy makers meeting in Bratislava trimmed the main
refinancing rate to 0.5 percent from 0.75 percent, taking the
ECB closer to exhausting its conventional policy tools.

Falling interest rates for the EU as a whole have “not yet
fed through to the real economy,” the commission said. It also
flagged risks that growth could be even weaker than currently
projected if nations slow their structural reforms, if extra
budget cuts further damp output or if the euro appreciates and
hurts exports.

“High unemployment points to the need for continuing the
course in structural reforms,” said Marco Buti, head of the
commission’s economics department. “The reduction in fiscal
deficits is making headway in a differentiated way.”

At the same time, “intolerably high unemployment in
vulnerable member states gives cause for a great concern,” Buti
said. The commission’s forecast projects that unemployment will
stabilize at high levels in the medium term, with a 12.1 percent
forecast for next year.

German Outlook

The euro-area growth outlook for 2014 has become more
muted, with a forecast of 1.2 percent growth, down from a
February prediction of 1.4 percent. The commission also cut its
forecast for the German economy, Europe’s largest, to 0.4
percent growth this year, down from 0.5 percent.

France joins the Netherlands, Italy, Spain, Portugal,
Greece, Cyprus and Slovenia as headed for contraction in the new
forecast. The Cypriot economy is now expected to shrink 8.7
percent, down from a prior estimate of 3.5 percent, in the wake
of a euro-area bailout agreement that forced heavy losses on
account-holders at the country’s two largest banks.

Across the 27-nation EU, GDP is now expected to shrink 0.1
percent in 2013, compared to a February forecast of 0.1 percent
growth. In 2014, the EU expects 1.4 percent growth, down from a
prior estimate of 1.6 percent. EU-wide unemployment is projected
at 11.1 percent this year and next.

‘Overly Optimistic’

The euro area as a whole is expected to post a budget
deficit of 2.9 percent in 2013, according to the EU report.
France, where President Francois Hollande has tussled with EU
calls for more austerity, is projected to post a 3.9 percent
deficit in 2013 and a 4.2 percent gap in 2014, assuming no
changes from current policies.

Rehn said France’s own growth forecast is “overly
optimistic” and called for underlying economic changes to
bolster growth.

“France badly needs to unblock its growth potential and
create jobs,” Rehn said. The country needs to “put a renewed
and strong emphasis on structural reforms in the labor market,
in the pension systems, by opening up closed professions and
services markets.”

Spain is forecast to show a 6.5 percent deficit in 2013.
The Spanish economy is now projected to shrink 1.5 percent in
2013, down from a previous forecast of 1.4 percent, with
unemployment rising to 27 percent. Greece faces the same
expected level of 2013 unemployment, accompanied by a 4.2
percent GDP decline that was improved slightly from a prior
forecast of a 4.4 percent fall.